Doing the deed

The recent economic slowdown in the City has inevitably had a knock-on effect on the profit margins of professional firms. Performance expectations of 21st century partners have changed. The average profits per partner of most medium-sized and large firms can now be ascertained readily. That figure is the currency with which firms negotiate mergers and make lateral hires. Long gone are the days when an equity partner in a professional firm could look forward to partnership for life.

Recent months have seen a number of firms making strategic moves to boost partner profits. We are seeing partners moving from one firm to another at an unprecedented rate.

It is no longer sufficient for today’s equity partners to be technically brilliant – that is taken as read. They need to be effective managers and successful rainmakers – marketers who can work a room and convert contacts into clients. The performance of an equity partner is judged by their ability to generate profit for their firm.

We examine below the key issues that we see firms encounter when managing out underperforming partners and offer some practical solutions to make the process run smoothly.

Stumbling blocks

Firms are sometimes surprised to find that, despite having a partnership deed, they are a partnership at will. If a partner has failed to sign the partnership deed – or not even seen a copy of the deed, let alone agreed to its terms – any partner may be in a position to serve notice of dissolution of the partnership on the other partners at any time.

Such a situation must be dealt with sensitively. Most firms in this position choose to negotiate an amicable departure on agreed terms, treating the departing partner more generously than is contemplated by its partnership deed. The departing partner is more likely to use the threat of dissolution as a bargaining tool to increase the amount of the retirement package than to dissolve the partnership.

Partners are protected by discrimination legislation, even though they are not employees. Discrimination on the grounds of sex, race or disability has been unlawful for years. New legislation came into force in December 2003 that prohibits discrimination on the grounds of sexual orientation, religion or belief and age discrimination legislation is due to come into force in October 2006.

Over recent months, there have been press reports of high-profile sex discrimination claims against City law firms. Discrimination proceedings are expensive and stressful to defend and occupy a great deal of management time; such cases also inevitably attract adverse publicity.

Unlimited loss-based compensation can be awarded in discrimination cases. Future loss of profit share is taken into account along with injury to feelings. If a firm were to lose a discrimination case brought by a partner or potential partner, it could be ordered to pay a vast amount of money.

Partners who are unable to appraise their own performance objectively are often shellshocked when they are informed that they have failed to meet the firm’s required standards of performance. This is particularly so with partners who have been with the same firm for many years.

Solutions

The best solution for both parties is almost always an agreed retirement deal and the vast majority of cases result in an agreed retirement package being negotiated.

We are aware of many cases not reported in the press that have been settled on terms that include elaborate confidentiality provisions. Often the deal is presented on the basis that the partner is resigning voluntarily – they leave with their head held high and their dignity intact.

An alternative strategy is for management to rely on compulsory retirement or expulsion provisions in the partnership deed. Normally such provisions require the approval of a high percentage of partners voting at a partners’ meeting. This poses various difficulties.

Other partners in a similar position may vote against the compulsory retirement, fearing that they may be next in line for the chop. It could be deeply embarrassing for the firm’s management if it were unable to achieve the requisite majority to endorse an expulsion resolution.

Strategic and tactical advice

Being told that one’s performance does not come up to scratch is a bitter pill to swallow. There are, though, a number of sweeteners that do not cost firms much financially but are valuable to a departing partner and assist them to obtain a partnership position elsewhere, including:

Agreed internal/external announcements to protect the partner’s reputation in the marketplace.

An agreed reference in terms intended to be positive and helpful.

Outplacement counselling to help the partner find another suitable position elsewhere.

Often we see firms allowing a departing partner to remain with the firm (either on gardening leave or working) for a fixed number of months, with the amount of their profit share, drawings or compensation reducing each month that they remain with the firm after the expiry of the notice period. The reduction each month is an incentive for the partner to find another position quickly. In the event that the partner finds another position before the end of the fixed term, they are allowed to bring their retirement date forward by giving the firm a short period of notice.

Avoiding pitfalls

In order to avoid the risk of dissolution, firms should ensure that all new and existing partners sign up to their partnership deed to avoid any suggestion of being a partnership at will.

While most assistant solicitors are appraised at least annually, partner appraisal is not yet universal practice. It is in the interest of every professional firm – and in the interest of each partner – to have a formal appraisal process for all equity and salaried partners. Some firms have incorporated 360° feedback from partners and their direct reports on a no-names basis. It is harder for a partner to bury their head in the sand when confronted with performance issues in black and white. Best practice is to document carefully the outcome of appraisals so that performance issues can be addressed sensibly. Details should be given of the ways in which the partner has failed to comply with the firm’s standards of performance. The most acrimonious disputes are those where a partner has been asked to leave without having previously been made aware of a strategic or performance issue.

Firms may also wish to publish internally their performance expectations for both salaried and equity partners. Such documentation will serve as useful evidence if the firm is forced to defend a discrimination claim brought by an underperforming partner who has been asked to leave.

The retirement provisions of a partnership deed should be drafted to give the highest degree of flexibility generally acceptable to the partners. From the firm’s point of view, the freedom to serve a notice of compulsory retirement on a partner with or without cause is extremely valuable, and needs to be accompanied by a provision ensuring fair compensation for the departing partner.

Performance issues require sensitive handling to minimise a firm’s potential exposure. Reaching an agreed retirement deal with a departing partner will be easier if the firm treats the partner fairly and compassionately from the outset. It should ensure that all its ducks are in a row before commencing discussions, and offer a retirement package in line with the partnership deed and current practice. Ideally, the package offered should be one that any solicitor experienced in this area of law will advise the departing partner to accept. That principle offers the best prospect of avoiding acrimony, of allowing management to demonstrate that partners will always be treated fairly and of encouraging the departing partner to leave with a chip-free shoulder.

Ronnie Fox and Michelle Levin specialise in partnership and employment law at Fox Williams